SEC Rule 506 (c) Integration Pitfalls: Don't Use the SEC's New Advertising and Solicitation Private Placement Rule to Saw Off the Limb You are Sitting On

 By Jim Verdonik

I'm an attorney with Ward and Smith PA . I also write a column about business and law for American Business Journals, have authored multiple books and teach an eLearning course for entrepreneurs.  You can reach me at JFV@WardandSmith.com or JimV@eLearnSuccess.com.  Or you can check out my eLearning course at http://www.elearnsuccess.com/start.aspx?menuid=3075 or http://www.youtube.com/user/eLearnSuccessor or you can purchase my books at http://www.amazon.com/Jim-Verdonik/e/B0040GUBRW

Have you ever seen a cartoon where the character who is sitting on a tree limb saws off the part of the limb between him and the tree trunk?

Sometimes the tree limb and the cartoon character fall with a big crash.

But in another version of the same branch-sawing situation, the entire tree trunk falls and the cartoon character and the tree limb remain safely suspended in thin air.

Let's talk about how you avoid using new SEC Rule 506 (c)'s advertising and general solicitation provisions to saw off the tree limb you are sitting on.

Before we begin talking about Rule 506(c) and advertising, let me ask which type person are you:

• The optimist who thinks the whole tree trunk will fall down while you remain safely perched on your branch?
• Or are you a pessimist who always worries that the laws of gravity will crash you to earth as soon as you saw off the branch you are sitting on?

I ask these questions, because once you start using Rule 506 (c) to advertise or conduct a general solicitation, you will cut yourself off from the ability to raise capital using many other private placement exemptions – at least for a while.  If for any reason your advertising campaign doesn't help you raise the capital you need to survive and grow, you'll crash to earth like that cartoon character, unless you have a back-up plan that suspends the laws of gravity.

So, if you decide to advertise, understand that you are gambling.  Like all other bets, you win some and you lose others.

Now, let's start exploring what happens if you lose your SEC Rule 506 (c) advertising bet.

Will SEC Rule 506 (c)'s Permission to Advertise Cure Your Capital Woes or is Its Accredited Investor Verification Requirement a Poison Pill?

 By Jim Verdonik

I'm an attorney with Ward and Smith PA. I also write a column about business and law for American Business Journals, have authored multiple books and teach an eLearning course for entrepreneurs. You can reach me at JFV@WardandSmith.com or JimV@eLearnSuccess.com. Or you can check out my eLearning course at http://www.elearnsuccess.com/start.aspx?menuid=3075 or http://www.youtube.com/user/eLearnSuccessor or you can purchase my books at http://www.amazon.com/Jim-Verdonik/e/B0040GUBRW

In my last article, we discussed how the SEC's Bad Actor prohibition for Rule 506 private placement offerings was the SEC's way of endorsing the old saying:  "If you lie down with dogs, expect to get fleas."

Let's continue our analysis of the SEC's recent Rule 506 (c) changes through the eyes of dogs.  The SEC threw business trying to raise capital a bone by letting them advertise in Rule 506 (c) private placements, but you have to learn new tricks about how you verify that a purchaser is an "accredited investor" if you want to chew on this bone.
 

Are the benefits of advertising worth it?

Will it cure your capital woes?

Or are the accredited investor verification a poison pill that will kill your business?

Rule 506 (c) Advertising and General Solicitation

Here's a link to the page of the SEC's website that contains SEC Release 33-9415 about advertising and general solicitations in Rule 506 (c) private placements: http://www.sec.gov/rules/final.shtml  Most of the SEC's release explains Rule 506 (c) and the reasons for it, but the full text of the Rule 506 (c) is at the end of the release.

 You won't find any direct statement in Rule 506 (c) that permits advertising or general solicitations.  Instead, the SEC backed into allowing advertising and general solicitations by not including in the new Rule 506 (c) the same prohibition against advertising and general solicitations that Rule 506 (b) had and continues to have.  This avoidance of actually directly giving permission to advertise and solicit generally might reflect the fact that the SEC has only approved Rule 506 (c), because Congress and the President required it in the JOBS Act of July 2012. 

When you try to predict how the SEC will interpret and enforce Rule 506 (c), it's useful to remember that people at the SEC didn't just wake up one day and say:  "I have a great idea.  Let's permit businesses to advertise for investors in private placements."

That's another way of saying that the SEC will probably strictly enforce accredited investor verification rules and anti-fraud provisions that relate to what you say in advertising and how you say it.  Think of it like going to your father to let you do something your mother wouldn't let you do.  Your mom might reluctantly go along with it, but she will hold you to the letter of what you agreed with your father.  Don't expect too many breaks.

To better understand advertising and general solicitations, let's look at Rule 502 (c) which is incorporated into Rule 506 (b) offerings, but is not incorporated into Rule 506 (c) offerings.

"Neither the issuer not any person acting on its behalf shall offer or sell securities by any form of general solicitation or general advertising. . . ."

Rule 502 (c) gives examples of prohibited practices, which includes advertisements, articles notices and other communications published in any newspaper magazine, or similar media or broadcast over television or radio and any seminar or meeting whose attendees have been invited by general solicitation or general advertising.  Since Rule 502 (c) pre-dates the Internet, Rule 502 (c) does not specifically mention websites and social media, but these newer media are covered by Rule 502 (c).

SEC'S Bad Actor Rule: When You Lie Down with Dogs Expect to Get Fleas

 By Jim Verdonik

I'm an attorney with Ward and Smith PA. I also write a column about business and law for American Business Journals, have authored multiple books and teach an eLearning course for entrepreneurs. You can reach me at JFV@WardandSmith.com or JimV@eLearnSuccess.com. Or you can check out my eLearning course at http://www.elearnsuccess.com/start.aspx?menuid=3075

or http://www.youtube.com/user/eLearnSuccessor or you can purchase my books at http://www.amazon.com/Jim-Verdonik/e/B0040GUBRW

 On July 10, 2013 the Securities and Exchange Commission expressed faith in the old adage "If you lie down with dogs expect to get fleas" by approving its final Bad Actor Rule for Rule 506 private placements. 

 Here's a link to the page of the SEC's website that contains the Bad Actor Rule in SEC Release 33-9414: http://www.sec.gov/rules/final.shtml  Most of the SEC's release explains the rule and the reasons for it, but the full text of the new rule is at the end of the release.

Some people might complain that the SEC is making many people pay for a few people's bad acts.  If the SEC makes it more difficult for a business to raise capital, because a person related to the business or an intermediary did something bad at some point during the past ten years, all the investors in the business risk losing their investment.  Is this additional investor risk necessary - especially in light of the fact that the bad action doesn’t have to be related to this current business?

Any impediment to raising capital is likely to scare away some investors, because a business' ability to raise additional capital is important to many business plans.  So, investors have another thing to look for in due diligence.   Before you invest, ask about the past history of all the officers, directors, other investors and intermediaries.

 But after much debate, the SEC seems to have decided that it's more important to try to make it more difficult for the fleas to bite new investors than to worry about collateral damage to existing investors, founders and employees. 

Of course, many teachers think cancelling recess for the entire class is a useful disciplinary tool even if only two children in the class are misbehaving.  Teachers use  class-wide punishments to exert peer pressure.  This can be effective if it motivates the other twenty children in the class to police the misbehaving students.  But students usually have no choice about their classes and their teachers.  Investors can just decide not to invest.

Only time will tell whether the SEC's disciplinary strategy works so that investors get rid of bad actors or whether this policy will just reduce the amount of capital American businesses can raise.
 

 

Ask Jefferson and Lincoln How Law Schools Ruined Lawyers

 By Jim Verdonik

I'm an attorney with Ward and Smith PA. I also write a column about business and law for American Business Journals, have authored multiple books and teach an eLearning course for entrepreneurs. You can reach me at JFV@WardandSmith.com or JimV@eLearnSuccess.com. Or you can check out my eLearning course at http://www.elearnsuccess.com/start.aspx?menuid=3075

or http://www.youtube.com/user/eLearnSuccessor or you can purchase my books at http://www.amazon.com/Jim-Verdonik/e/B0040GUBRW

 [Note: This post is a longer version of an Article I wrote that was originally published in Triangle Business Journal in July2013.]

Did you know that law schools are having trouble recruiting students?

Lots of young people are deciding not to borrow another $100,000 on top of their undergraduate loans – especially when many recent law graduates are unemployed or underemployed.

Law schools used to be refuges for students in recessions.  If there aren't jobs when you graduate college, hide in law school for three years.  By that time the job market will improve.  There's always room for more lawyers.

Right?

But times have changed.  The market for young lawyers is only marginally better than when the stock market crashed in 2009. 

Law schools are cash cows for universities.  They're like the big SUVs and trucks are for car companies.  There's more profit per vehicle/student than other vehicles/students they produce.

So, higher margins tempted law schools to keep adding students during economic boom times.  For the past several years or longer, they're been producing more new lawyers than the market needs.  Sounds a lot like condo builders in Florida and Las Vegas, doesn't it?  First the real estate bubble.  Then the law student bubble.

So, students are finally acting like intelligent consumers.  If the market doesn't need so many young lawyers, why shouldn't young people ask:  Who needs law schools?

That's a problem for law schools, but maybe it's an opportunity for everyone else.

Let's run with that question.

Who needs law schools?  And why?

Let's start answering these questions by remembering that law schools are a recent innovation.

America's two most famous lawyers didn't go to law school - Thomas Jefferson and Abraham Lincoln.

You remember them don't you?  They have big memorials on the Mall in Washington DC, but they were lawyers.

So, let's ask the question:  Have law schools produced better lawyers than Jefferson and Lincoln?